a

GAO

United States General Accounting Office

Report to Congressional Requesters

July 2003 SECURITIES 

INVESTOR 

PROTECTION

Update on Matters 

Related to the 

Securities Investor 

Protection 

Corporation

GAO-03-811
SEC has taken steps to implement each of the seven recommendations 

directed to SEC in GAO’s May 2001 report. SEC has updated its Web site to 

provide investors with more information about SIPC’s policies and practices, 

particularly with regard to unauthorized trading and nonmember affiliate 

claims. SEC has taken other steps consistent with our recommendations to 

improve its oversight of SIPC and is working with self-regulatory 

organizations (SRO) to increase investor awareness of SIPC’s policies 

through distribution of the SIPC brochure and disclosures on account 

statements. 

Likewise, SIPC has taken steps to implement the three recommendations 

directed to SIPC in our 2001 report, but additional work is needed on one. 

SIPC has updated its brochure and Web site to clarify that investors should 

complain in writing to their securities firms about suspected unauthorized 

trades. SIPC also expanded a statement in its brochure that discusses 

market risk and SIPC coverage and amended its advertising bylaws to 

require firms that display an expanded statement about SIPC to include a 

reference or link to SIPC’s Web site. Moreover, SEC, the NASD, and many 

securities firms provide the recommended disclosures about the scope of 

SIPC coverage to investors on their Web sites. SIPC also added links to Web 

sites in its brochure that offer information about investment fraud. 

However, investors could benefit from more specific links to investor 

education information. 

 

Until this year, certain well-capitalized, large, and regional securities firms 

were able to purchase and provide excess SIPC coverage from four major 

insurers. The insurance policies varied by firm and insurer in terms of the 

amount of coverage offered per customer and in aggregate per firm. 

Attorneys familiar with the policies agreed that the disclosure of the 

coverage and the terms of coverage could be improved. During the review, 

GAO found that three of the four major insurers that offered excess SIPC 

coverage in 2002 stopped underwriting these policies in 2003. Consequently, 

as the policies expire in 2003, most insurers are not renewing their existing 

policies and have stopped underwriting new policies. At this time, holders 

of the insurance policies have not decided what to do going forward. 

However, several options are being explored including self-insuring and 

purchasing policies from the remaining major insurer. 

As result of ongoing concerns 

about the adequacy of disclosures 

provided to investors about the 

Securities Investor Protection 

Corporation (SIPC) and investors’ 

responsibilities to protect their 

investments, GAO issued a report 

in 2001 entitled Securities Investor 

Protection: Steps Needed to Better 

Disclose SIPC Policies to Investors 

(GAO-01-653). GAO was asked to 

determine the status of 

recommendations made to the 

Securities and Exchange 

Commission (SEC) and SIPC in 

that report. GAO was also asked to 

review a number of issues involving 

excess SIPC insurance, private 

insurance securities firms purchase 

to cover accounts that are in 

excess of SIPC’s statutory limits. 

To ensure that investors have 

access to relevant information 

about SIPC, GAO recommends that 

SIPC provide more specific 

references to investor education 

information in its brochure. 

In addition, GAO recommends that 

SEC, in conjunction with the SROs, 

ensure that firms are providing 

investors with meaningful 

disclosures about excess SIPC and 

monitor firm disclosures about any 

changes in the coverage. 

SEC and SIPC generally agree with 

the report’s findings and 

recommendations. 

www.gao.gov/cgi-bin/getrpt?GAO-03-811.

To view the full product, including the scope 

and methodology, click on the link above. 

For more information, contact Richard J. 

Hillman, (202) 512-8678, hillmanr@gao.gov. 

Highlights of GAO-03-811, a report to 

congressional requesters 

July 2003 

SECURITIES INVESTOR PROTECTION

Update on Matters Related to the 

Securities Investor Protection 

Corporation 
Page i GAO-03-811 Securities Investor Protection

Contents

Letter 1

Results in Brief 2

Background 5

SEC Has Taken Steps to Address Our Recommendations 11

SIPC Has Taken Steps to Improve Investor Education 16

Terms of Existing Excess SIPC Policies Vary, and Most Insurers 

Have Stopped Underwriting New Policies 20

Conclusions 28

Recommendations 29

Agency Comments 29

Objectives, Scope, and Methodology 30

Appendixes

Appendix I: Comments from the U.S. Securities and Exchange 

Commission 32

Appendix II: Comments from the Securities Investor Protection 

Corporation 34

Appendix III: GAO Contacts and Staff Acknowledgments 36

GAO Contacts 36

Acknowledgments 36

Table Table 1: Examples of How SIPC Protects Investors 11
Contents

Page ii GAO-03-811 Securities Investor Protection

Abbreviations

FDIC Federal Deposit Insurance Corporation

IG Inspector General

NERO Northeast Regional Office

NYSE New York Stock Exchange

OCIE Office of Compliance Inspections and Examinations

OGC Office of General Counsel

PSA public service announcement

SEC Securities and Exchange Commission

SIA Securities Industry Association

SIPA Securities Investor Protection Act of 1970

SIPC Securities Investor Protection Corporation

SRO self-regulatory organization

This is a work of the U.S. government and is not subject to copyright protection in the 

United States. It may be reproduced and distributed in its entirety without further 

permission from GAO. However, because this work may contain copyrighted images or 

other material, permission from the copyright holder may be necessary if you wish to 

reproduce this material separately.
Page 1 GAO-03-811 Securities Investor Protection

United States General Accounting Office

Washington, D.C. 20548

A

July 11, 2003 Letr

The Honorable John D. Dingell

Ranking Minority Member

Committee on Energy and Commerce

House of Representatives

The Honorable Barney Frank

Ranking Minority Member

Committee on Financial Services

House of Representatives

The Honorable Paul E. Kanjorski

Ranking Minority Member 

Subcommittee on Capital Markets, 

Insurance and Government Sponsored Enterprises

Committee on Financial Services

House of Representatives

Disclosure has an important role in securities market regulation, and the 

Securities Investor Protection Corporation (SIPC) has a responsibility to 

inform investors of actions they can take to protect their investments and 

help ensure that investors are afforded the full protections allowable under 

the Securities Investor Protection Act of 1970 (SIPA). In our 2001 report, 

we concluded that many investors were unaware of the steps they should 

take to protect their investments.1

 We found that SIPC and the Securities 

and Exchange Commission (SEC), which play vital roles in investor 

education, had missed opportunities to disclose information on SIPC’s 

policies, practices, and coverage to investors. Our report contained 10 

recommendations to SEC and SIPC about ways to improve the information 

available to the public about SIPC and SEC’s oversight of SIPC. 

This report responds to your August 16, 2001, and October 30, 2001, 

requests that we followup on our 2001 report recommendations. As 

requested, this report also includes information about “excess SIPC,” 

which refers to private insurance that securities firms can purchase to 

cover customer claims that are in excess of the $500,000 (which includes 

$100,000 cash) limits established by SIPA. Excess SIPC policies typically 

1

U.S. General Accounting Office, Securities Investor Protection: Steps Needed to Better 

Disclose SIPC Policies to Investors, GAO-01-653 (Washington, D.C.: May 25, 2001).
Page 2 GAO-03-811 Securities Investor Protection

cover cash and securities like SIPC, but the dollar amount of the coverage 

can vary from net equity coverage to a specific dollar amount. Although the 

policies are advertised as excess SIPC, not all policies may be consistent 

with SIPA. In light of these concerns, you asked that we review 

implications for investors and possible investor misunderstanding about 

these policies.

To determine the status of our 2001 report recommendations to SEC and 

SIPC, we interviewed relevant officials from SEC and SIPC to determine 

what steps they had taken to implement our recommendations since May 

2001. We verified changes to SEC and SIPC Web sites and SIPC’s brochure 

to determine what SEC and SIPC disclosed to investors regarding SIPC’s 

policies and practices regarding unauthorized trading2

 and nonmember 

affiliate issues.3 We also spoke with self-regulatory organization (SRO) 

officials about related disclosure issues.4 To address issues surrounding 

excess SIPC coverage, we interviewed SEC, SIPC, and SRO staff; 

representatives from underwriters and insurance brokers; securities firms 

(policy holders); SIPC trustees; and attorneys knowledgeable about excess 

SIPC. We also reviewed a sample of excess SIPC policies, including one 

policy from each of the four major underwriters that provided coverage in 

2002. We conducted our work from October 2002 through July 2003 in 

accordance with generally accepted government auditing standards.

Results in Brief SEC has completed or is in the process of implementing each of the seven 

recommendations made in our May 2001 report. Three recommendations 

were aimed at improving the information SEC provides to investors about 

SIPC’s policies and practices, particularly with regard to unauthorized 

trading and nonmember affiliate claims. In response to our 

recommendations, SEC updated the investor education section of its Web 

site to include more consistent information about documenting 

2

Unauthorized trading occurs when a firm buys or sells securities for a customer’s accounts 

without the customer’s approval.

3

Most registered firms automatically become members of SIPC. However, affiliates (firms 

that are formally tied within the same financial holding company) of securities firms are not 

required to become members of SIPC.

4

SROs have an extensive role in regulating the U.S. securities markets, including ensuring 

that members comply with federal securities laws and SRO rules. SROs include all the 

registered U.S. securities exchanges and clearing houses, the NASD (formerly known as 

National Association of Securities Dealers) and the New York Stock Exchange (NYSE).
Page 3 GAO-03-811 Securities Investor Protection

unauthorized trading claims and updated a Web page dedicated to 

providing information about SIPC policies and practices. SEC has also 

implemented two recommendations intended to improve its oversight of 

SIPC operations. As recommended, SEC adjusted the sample of 

liquidations it examined in its recently completed review of SIPC to include 

a larger number of liquidations involving unauthorized trading or 

nonmember affiliate issues. In response to the SEC Inspector General (IG) 

and our recommendation that SEC establish a formal procedure to share 

information about SIPC among its various divisions and offices, SEC began 

holding quarterly meetings. SEC has subsequently determined that more 

frequent, informal meetings were more effective. If this format continues to 

allow SEC to share information with all the relevant parties, it would be an 

effective response to our recommendation. Finally, SEC is still in the 

process of implementing our recommendations to require firms to 

distribute the SIPC brochure to customers and to require clearing firms to 

include information about documenting unauthorized trades in writing on 

account statements. SEC officials have sent letters to the New York Stock 

Exchange (NYSE) and NASD asking them to explore how these 

recommendations could be implemented through SRO rulemaking or 

notices to members, and the SROs are evaluating possible approaches to 

implement these recommendations.

SIPC has taken steps to implement each of our three recommendations, but 

needs to complete additional work on one. We made recommendations to 

SIPC aimed at improving the information it provides to investors about its 

policies and practices, particularly regarding unauthorized trading and 

nonmember affiliate claims. First, we recommended that SIPC revise its 

informational brochure and Web site to include a full explanation of the 

steps necessary to document an unauthorized trading claim. In response to 

our recommendation, SIPC has updated its brochure and Web site to clarify 

that investors should complain in writing to their securities firms about 

suspected unauthorized trades. Second, we recommended that SIPC 

amend its advertising bylaws to include a statement that SIPC does not 

protect against losses due to market fluctuations. According to SIPC 

officials, such a statement would be misleading unless additional 

explanations were added. However, SIPC has expanded a statement in its 

brochure that discusses market risk and SIPC coverage and amended its 

advertising bylaws to require firms that display an expanded statement to 

include a reference or link to SIPC’s Web site. In addition, we found that 

SEC, SROs, and many securities firms provide the recommended 

disclosures to investors on their Web sites. In combination, such actions 

collectively respond to our recommendation. Third, we recommended that 
Page 4 GAO-03-811 Securities Investor Protection

SIPC revise its brochure to warn investors to exercise caution when calling 

to complain about an unauthorized trade in order to avoid unintentionally 

ratifying an unauthorized trade. In response, SIPC provided investors with 

links to Web sites, such as SEC’s, that offer information about investment 

fraud. However, SIPC provides links to only the main Web site and not to 

specific Web pages that contain the relevant information, so investors may 

have difficulty locating information about specific types of fraud. For 

example, based on the Web address provided in the brochure, investors 

searching SEC’s Web site for “fraud,” would be linked to over 5,000 possible 

references. Providing more specific links to investor education information 

would make it much easier for investors to locate relevant information. 

Until this year, excess SIPC coverage was generally available to certain 

well-capitalized, large, and regional securities firms. The policies varied by 

firm and insurer in terms of the amount of coverage offered per customer 

and in aggregate per firm. Attorneys familiar with the policies agreed that 

the disclosure of the coverage and the terms of coverage are sometimes 

unclear. In our review of some of the policies, it was unclear who was 

covered and how the claims process would work in the case of a firm’s 

bankruptcy. The policies were also unclear in terms of when a claim can be 

filed and whether the trustee or the customer would file it. During our 

review, three of the four major insurers that offered excess SIPC coverage 

in 2002 stopped underwriting these policies in 2003. Some of these insurers 

said they had stopped providing coverage primarily because of the 

complexity of quantifying their potential risk exposure in relation to the 

relatively low premiums.5

 Consequently, as the policies expire in 2003, most 

insurers are not renewing their existing policies and have stopped 

underwriting new policies. At this time, some of the policyholders have not 

decided what to do going forward. However, several options are being 

explored, including self-insuring and purchasing policies from the 

remaining major insurer. 

5

To evaluate and measure the impact of losses to a firm, maximum potential loss and 

maximum probable loss must be determined. The maximum potential loss, which is the 

absolute maximum dollar amount of loss, could be significant because it is simply the 

aggregate of all customer account balances over SIPC’s $500,000 limit. Conversely, the 

maximum probable loss is the likely dollar loss if a firm were to become part of a SIPC 

liquidation proceeding. This type of calculation is usually based on historical loss data for 

the particular event, but unlike most other insurance products, actuaries have no historical 

loss data for excess SIPC products because no claims-related losses have been incurred. 
Page 5 GAO-03-811 Securities Investor Protection

Given the important and ongoing role that SEC and SIPC play in investor 

education and protection, we make new recommendations to SEC and 

SIPC aimed at further improving investor education and protection. First, 

we recommend SIPC modify its brochure to provide more specific links to 

investor education information as SIPC continues its efforts to improve 

investor awareness of SIPC’s policies and practices and to educate 

investors in general. Finally, as existing excess SIPC policies expire and are 

replaced with new policies or are not replaced at all, we recommend that 

SEC take actions to monitor these ongoing developments. 

We requested comments on a draft of this report from the Chairman, SEC, 

and the Chairman, SIPC. We received comments from the Director, 

Division of Market Regulation, SEC, and President, SIPC. Both generally 

agreed with the report’s findings and recommendations. SEC’s and SIPC’s 

comments are discussed in greater detail at the end of this letter, and the 

written comments are reprinted as appendixes I and II, respectively.

Background SIPA established SIPC to provide certain financial protections to the 

customers of insolvent securities firms. As required under law, SIPC either 

liquidates a failed firm itself (in cases where the liabilities are limited and 

there are less than 500 customers) or a trustee selected by SIPC and 

appointed by the court liquidates the firm.6

 In either situation, SIPC is 

authorized to make advances from its customer protection fund to 

promptly satisfy customer claims for missing cash and securities up to 

amounts specified in SIPA. Between 1971 and 2002, SIPC initiated a total of 

304 liquidation proceedings and paid about $406 million to satisfy such 

customer claims.

SIPC’s Mission SIPC was established in response to a specific problem facing the 

securities industry in the late 1960s: how to ensure that customers recover 

their cash and securities from securities firms that fail or cease operations 

and cannot meet their custodial obligations to customers. The problem 

peaked in the late 1960s, when outdated methods of processing securities 

trades, coupled with the lack of a centralized clearing system able to 

handle a large surge in trading volume, led to widespread accounting and 

6

SIPA authorizes an alternative to liquidation under certain circumstances when all 

customer claims aggregate to less than $250,000.
Page 6 GAO-03-811 Securities Investor Protection

reporting mistakes and abuses at securities firms. Before many firms could 

modernize their trade processing operations, stock prices declined sharply, 

which resulted in hundreds of securities firms merging, failing, or going out 

of business. During that period, some firms used customer property for 

proprietary activities, and procedures broke down for proper customer 

account management, making it difficult to locate and deliver securities 

belonging to customers. The breakdown resulted in customer losses 

exceeding $100 million because failed firms could not account for their 

customers’ property. Congress became concerned that a repetition of these 

events could undermine public confidence in the securities markets. 

SIPC’s statutory mission is to promote confidence in securities markets by 

allowing for the prompt return of missing customer cash and/or securities 

held at a failed firm. SIPC fulfills its mission by initiating liquidation 

proceedings when appropriate and transferring customer accounts to 

another securities firm or returning the cash or securities to the customer 

by restoring to customer accounts the customer’s “net equity.” SIPC defines 

net equity as the value of cash or securities in a customer’s account as of 

the filing date, less any money owed to the firm by the customer, plus any 

indebtedness the customer has paid back with the trustee’s approval within 

60 days after notice of the liquidation proceeding was published. The filing 

date typically is the date that SIPC applies to a federal district court for an 

order initiating proceedings.7

 SIPA sets coverage at a maximum of 

$500,000 per customer, of which no more than $100,000 may be a claim for 

cash. SIPC is not intended to keep firms from failing or to shield investors 

from losses caused by changes in the market value of securities. 

SIPC is a nonprofit corporation governed by a seven-member Board of 

Directors that includes two U.S. government, three industry, and two public 

representatives. SIPC has 31 staff located in Washington, D.C. Most 

securities firms that are registered as broker-dealers under Section 15(b) of 

the Securities Exchange Act of 1934 automatically become SIPC members, 

regardless of whether they hold customer property. As of December 31, 

2002, SIPC had 6,679 members. SIPA excludes from membership securities 

firms whose principal business—as determined by SIPC subject to SEC 

review—is conducted outside of the United States, its territories, and

7

Under SIPA, the filing date is the date on which SIPC files an application for a protective 

decree with a federal district court, except that the filing date can be an earlier date under 

certain circumstances, such as the date on which a Title 11 bankruptcy petition was filed.
Page 7 GAO-03-811 Securities Investor Protection

possessions. Also, a securities firm is not required to be a SIPC member if 

its business consists solely of (1) distributing shares of mutual funds or unit 

investment trusts,8

 (2) selling variable annuities,9 (3) providing insurance, 

or (4) rendering investment advisory services to one or more registered 

investment companies or insurance company separate accounts. SIPA, as 

recently amended, also exempts a certain class of firms that are registered 

with SEC solely because they may affect transactions in single stock 

futures. 

SIPA covers most types of securities such as notes, stocks, bonds, and 

certificates of deposit.10 However, some investments are not covered. SIPA 

does not cover any interest in gold, silver, or other commodity; commodity 

contract; or commodity option. Also, SIPA does not cover investment 

contracts that are not registered as securities with SEC under the 

Securities Act of 1933. Shares of mutual funds are protected securities; but 

securities firms that deal only in mutual funds are not SIPC members, and 

thus their customers are not protected by SIPC. In addition, SIPA does not 

cover situations where an individual has a debtor-creditor relationship, 

such as a lending arrangement, with a SIPC member firm.

Investors who attain SIPC customer status are a preferred class of 

creditors compared with other individuals or companies that have claims 

against the failed firm and are much more likely to get a part or all of their 

claims satisfied. This is because SIPC customers share in any customer 

property that the bankrupt firm possesses before any other creditors may 

do so. Although bankers and brokers are customers under SIPA, they are 

not eligible for SIPC fund advances. SIPA states that most customers are 

eligible for SIPC assistance, but SIPC funds may not be used to pay claims 

of any failed brokerage firm customer who is 

8

A unit investment trust is an SEC-registered investment company, which purchases a fixed, 

unmanaged portfolio of income-producing securities and then sells shares in the trust to 

investors.

9

An annuity is a contract that offers tax-deferred accumulation of earnings and various 

distribution options. A variable annuity has a variety of investment options available to the 

owner of the annuity, and the rate of return the annuity earns depends on the performance 

of the investments chosen.

10Typically, bank certificates of deposit are not securities under the Securities Exchange Act 

of 1934; however, they are defined as securities in SIPA.
Page 8 GAO-03-811 Securities Investor Protection

• a general partner, officer, or director of the firm; 

• the beneficial owner of 5 percent or more of any class of equity security 

of the firm (other than certain nonconvertible preferred stocks);

• a limited partner with a participation of 5 percent or more in the net 

assets or net profits of the firm;

• someone with the power to exercise a controlling influence over the 

management or policies of the firm; and 

• a broker or dealer or bank acting for itself rather than for its own 

customer or customers. 

The SIPC fund was valued at $1.26 billion as of December 31, 2002, which it 

uses to make advances to trustees for customer claims and to cover the 

administrative expenses of a liquidation proceeding.11 Administrative 

expenses in a SIPA liquidation include the expenses incurred by a trustee 

and the trustee’s staff, legal counsel, and other advisors. The SIPC fund is 

financed by annual assessments on all member firms—periodically set by 

SIPC—and interest generated from its investments in U.S. Treasury notes. 

SIPC, after consultation with the SROs, sets the amount of member 

assessments based on the amount necessary to maintain the fund and 

repay any borrowings by SIPC.12 At different times during the 1970s, 1980s, 

and 1990s members were assessed at a higher rate. Rates fluctuated 

depending on the level of expenses. SIPC’s board of directors attempted to 

match assessment rate increases with declines in the fund balance, so that 

years of high SIPC expenses were followed by periods of higher 

assessments. Since 1996, SIPC has charged each broker-dealer member an

11The SIPC board decided the fund balance should be raised to $1 billion to meet the longterm financial demands of a very large liquidation. The SIPC balance reached $1 billion in 

1996.

1215 U.S.C. 78ddd(c)(2). The assessments shall be a percentage of each member’s gross 

revenues if (1) the fund is below a level that the Commission determines is in the public 

interest; (2) SIPC is obligated on any outstanding borrowings; or (3) SIPC is required to 

phase out the lines of credit it has established. Otherwise, SIPC shall impose an annual 

assessment. 15 U.S.C. 78ddd(d)(1).
Page 9 GAO-03-811 Securities Investor Protection

annual assessment of $150.13 If the SIPC fund becomes or appears to be 

insufficient to carry out the purposes of SIPA, SIPC may borrow up to 

$1 billion from the U.S. Treasury through SEC (i.e., SEC would borrow the 

funds from the U.S. Treasury and then relend the funds to SIPC). In 

addition, SIPC has a $1 billion line of credit with a consortium of banks. 

SEC Oversight of SIPC SIPA gives SEC oversight responsibility over SIPC. SEC’s primary mission 

is to protect investors and the integrity of the securities markets. SEC 

seeks to fulfill its mission by requiring public companies to disclose 

financial and other information to the public. SEC is also responsible for 

conducting investigations of potential securities law violations and 

overseeing SROs such as securities exchanges, as well as broker-dealers 

(securities firms), mutual funds, investment advisors, and public utility 

holding companies. SEC may sue SIPC to compel it to act to protect 

investors. SIPC must submit all proposed changes to rules or bylaws to 

SEC for approval; and SEC may require SIPC to adopt, amend, or repeal 

any bylaw or rule.14 In addition, SIPA authorizes SEC to conduct 

inspections and examinations of SIPC and requires SIPC to furnish SEC 

with reports and records that it believes are necessary or appropriate in the 

public interest or to fulfill the purposes of SIPA.

SEC Rules Strengthen 

Customer Protection in the 

Securities Market

The law that created SIPC also required SEC to strengthen customer 

protection and increase investor confidence in the securities markets by 

increasing the financial responsibility of broker-dealers. Pursuant to this 

mandate, SEC developed a framework for customer protection based on 

two key rules: (1) the customer protection rule and (2) the net capital rule. 

These rules respectively require broker-dealers that carry customer 

accounts to (1) keep customer cash and securities separate from those of 

the company itself and (2) maintain sufficient liquid assets to protect 

customer interests if the firm ceases doing business. SEC and SROs, such 

1315 U.S.C. 78ddd(d)(1)(C). “The minimum assessment imposed upon each member of SIPC 

shall be $25 per annum through the year ending December 31, 1979, and thereafter shall be 

the amount from time to time set by SIPC bylaw, but in no event shall the minimum 

assessment be greater than $150 per annum.” Id. 

14A proposed rule change becomes effective 30 days after it is filed with SEC, unless the 

period is extended by SIPC or SEC takes certain actions. A proposed rule change may take 

effect immediately if it is a type that SEC determines by rule does not require SEC approval.
Page 10 GAO-03-811 Securities Investor Protection

as NYSE, are responsible for enforcing the net capital and customer 

protection rules. 

Excess SIPC Coverage Was 

Introduced in the 1970s

Under a typical SIPC property distribution process, SIPC customers are to 

receive any securities that the firms holds that are registered in their name 

or that are being registered in their name, subject to the payment of any 

debt to the firm. If some of the customer assets are missing and cannot be 

found by the trustee, the customer will receive a pro rata share of the firm’s 

remaining customer property. In addition, SIPC is required to replace 

missing securities and cash in an investor’s account up to the statutory 

limits. For firms with excess SIPC policies, this coverage would be 

available as well. For example, if a firm is liquidated by a SIPC trustee that 

should have $10 billion in customer assets, but the trustee can account for 

only $9.8 billion or 98 percent of the $10 billion in assets, each customer 

would receive 98 percent of their net equity (pro rata share). A customer 

with net equity of $10 million would receive 98 percent or $9.8 million of 

their $10 million. In addition the trustee may use up to $500,000 advanced 

from the SIPC fund to satisfy the customer’s claim, but only $100,000 may 

be advanced for cash. With a $200,000 advance from SIPC, the customer in 

this example would have received the entire $10 million in assets owed. To 

protect customers who have claims in excess of the SIPC limit, Travelers 

Bond15 first began offering excess SIPC coverage to brokerage firms in 

1970, soon after SIPA was enacted. Other companies began to join the 

market in the mid-1980s. However, such claims above the SIPA limit are 

rare and regulatory and industry officials confirmed that most customers 

would not be affected by such policies because their accounts are within 

the SIPA limits.

As seen in table 1, the amount of customer funds recovered determines if 

the investor will have a loss and whether excess SIPC would be triggered. 

For example, if the trustee determined that 50 percent of the customer 

assets were missing, a customer who is owed $1 million in assets would 

receive a $500,000 pro rata share from the estate and an advance from SIPC 

at its statutory limit of $500,000. However, a customer with $5 million in 

assets with the same 50 percent pro rata share would have $2 million in 

excess of the $500,000 SIPC advance and could be eligible for excess SIPC 

coverage if offered by the securities firm. Conversely, a customer with

15Travelers Bond is now Travelers Property Casualty Corp.
Page 11 GAO-03-811 Securities Investor Protection

$5 million in assets and a pro rata share of 90 percent or higher would be 

made whole by SIPC and would not have losses in excess of SIPC limits. 

Table 1: Examples of How SIPC Protects Investors

Source: SIPC and GAO analysis of how SIPC protects investors.

SEC Has Taken Steps 

to Address Our 

Recommendations

In our 2001 report, we made seven recommendations to SEC to address 

needed improvements to information it provided to investors about SIPC’s 

policies and practices, particularly regarding the evidentiary standard for 

unauthorized trading claims and to expand its review of SIPC operations 

among others. SEC has taken action to address all of the recommendations 

either directly or indirectly by delegating the implementation to the SROs.

First, we recommended that SEC review sections of its Web site and, where 

appropriate, advise customers to complain promptly in writing when they 

believe trades in their account were not authorized. This advice should 

include an explanation of SIPC’s policies and practices regarding claims 

and a general warning about how to avoid ratifying potentially 

unauthorized trades during telephone conversations. In 2001, we found that 

SIPC liquidations involving unauthorized trading accounted for nearly twothirds of all liquidations initiated from 1996 through 2000. SIPC’s policies 

and practices in these liquidation proceedings generated controversy, 

Customer assets 

Percent of customer 

property recovered

Pro rata share of assets 

returned to customer SIPC advance

Amount in excess of 

SIPC limit

$1,000,000 50 $500,000 $500,000 $0

5,000,000 50 2,500,000 500,000 2,000,000

5,000,000 60 3,000,000 500,000 1,500,000

5,000,000 70 3,500,000 500,000 1,000,000

5,000,000 80 4,000,000 500,000 500,000

5,000,000 90 4,500,000 500,000 0

10,000,000 50 5,000,000 500,000 4,500,000

10,000,000 60 6,000,000 500,000 3,500,000

10,000,000 70 7,000,000 500,000 2,500,000

10,000,000 80 8,000,000 500,000 1,500,000

10,000,000 90 9,000,000 500,000 500,000

10,000,000 98 9,800,000 200,000 0
Page 12 GAO-03-811 Securities Investor Protection

primarily because of the large numbers of claims that were denied and the 

methods used to satisfy certain approved claims. 

In addition, we found that SIPC’s policies and practices were often not 

transparent to investors and SEC had missed opportunities to provide 

investors with consistent information about SIPC’s evidentiary standard for 

unauthorized trading. For example, some sections of SEC’s Web site 

encouraged investors to call to complain about unauthorized trades, while 

other sections told the investor to complain immediately in writing. 

Although the telephone-based approach SEC recommended was 

reasonable if the firm acted in good faith to resolve problem trades, 

fraudulently operated firms were known to have used high pressure and/or 

fraudulent tactics to convince persons who called to complain about 

potentially unauthorized trades to ratify these trades. In response to our 

recommendation, SEC updated sections of its Web site to include 

consistent information on making unauthorized trading complaints in 

writing. In addition, they expanded the section entitled Cold Calling to 

include warnings about high-pressure sales tactics that some brokers may 

use.

Second, we recommended that SEC require firms that it determines to have 

engaged in or are engaging in systematic or pervasive unauthorized trading 

to prominently notify their customers about the importance of 

documenting disputed transactions in writing. In 2001, we found that 

although SEC may identify and impose sanctions on firms that have 

engaged in pervasive unauthorized trading long before they ever become 

SIPA liquidations, it does not routinely require such firms to notify their 

clients about documenting unauthorized trading claims. For example, 

between 1992 and 1997, one securities firm operated under intensive SEC 

and court supervision in connection with, among other violations, 

pervasive unauthorized trading and stock price manipulation. However, 

there was no requirement that the firm notify their customers to document 

their complaints in writing. Imposing this requirement could help investors 

protect their interests and benefit unsophisticated investors who may not 

review the SIPC brochure or other disclosures made on account 

statements. At the time the report was issued, SEC had agreed to 

implement this requirement on a case-by-case basis. Since 2001, SEC 

officials said that they have not had a case that required this action. 

Moreover, SEC officials noted that their first course of action would be to 

shut down firms that engage in pervasive unauthorized trading.
Page 13 GAO-03-811 Securities Investor Protection

Third, we recommended that SEC update its Web site to inform investors 

about the frauds that may be associated with certain SIPC member firms 

and their affiliates as well as the steps that can be taken to avoid falling 

victim to such frauds. SIPC’s policies and practices in liquidations of 

member firms that had nonmember affiliates have also been controversial 

because SIPC and trustees have denied many claims in such liquidation 

proceedings. In 2001, we found that SEC had missed opportunities to 

educate investors about the potential risks associated with certain 

nonmember affiliates. SEC’s Web site provided limited information about 

dealing with nonmember affiliates, and investors may not have been fully 

aware of the risks that can be associated with certain nonmember 

affiliates. In response to this recommendation, SEC updated an on-line 

publication called Securities Investor Protection Corporation, which 

discusses the problems that can occur when investors place their cash or 

securities with non-SIPC members. Investors are also told to always make 

sure that the securities firm and clearing firm16 are members of SIPC 

because firms are required by law to tell you if they are not. 

Next, we recommended that SEC take several actions to improve its 

oversight of SIPC. Specifically, we recommended that SEC implement the 

SEC IG’s recommendation that the Division of Market Regulation, the 

Division of Enforcement, the Northeast Regional Office (NERO) and the 

Office of Compliance, Inspections, and Examinations (OCIE) conduct 

periodic briefings to share information related to SIPC. In 2000, SEC’s IG 

found that communication among SEC’s internal units regarding SIPC 

could be improved. Although the SEC IG report found that SEC officials 

tried to keep each other informed about relevant SIPC issues, there was no 

formal procedure for doing so. At the time our report was issued, SEC had 

not yet implemented this recommendation, and we recommended that they 

do so. SEC officials said that they began to hold quarterly meetings, but 

determined that more frequent, informal meetings were more effective. 

They said that they meet to discuss SIPC as issues arise, which is typically 

more than once every quarter. As long as SEC continues to meet frequently 

and share information among all the relevant units, this approach 

effectively responds to the concern our recommendation was intended to 

address.

Fifth, we recommended that SEC expand its ongoing examination of SIPC 

to include a larger number of liquidations with claims involving 

16Clearing firms clear customer transactions and hold customer cash and securities.
Page 14 GAO-03-811 Securities Investor Protection

unauthorized trading or nonmember affiliate issues. SEC periodically 

conducts examinations of SIPC’s operations to ensure compliance with 

SIPA. In May 2000, the Division of Market Regulation and OCIE initiated a 

joint examination of SIPC. As of March 2001, SEC had included four SIPA 

liquidations involving unauthorized trading in its sample, but had not 

included any liquidations involving nonmember affiliate issues. Given the 

controversies involving SIPA’s liquidations involving unauthorized trading 

and nonmember affiliates, we believed that including a larger number of 

liquidations with these types of claims was warranted. SEC agreed with 

this recommendation and included a larger number of liquidations 

involving unauthorized trading or nonmember affiliate issues in the sample 

used for the review. Of the eight liquidations in SEC’s sample, five involved 

unauthorized trading and two involved nonmember affiliate issues. 

SEC completed its examination in January 2003 and issued its examination 

report in April 2003, which assessed SIPC’s policies and procedures for 

liquidating failed securities firms and identified several areas of 

improvement that warrant SIPC’s consideration. 

• SEC found that there was insufficient guidance for SIPC personnel and 

trustees to follow when determining whether claimants have 

established valid unauthorized trading claims. Although the evidentiary 

standards used were found to be reasonable, the standards differed 

between trustees. Therefore, SEC recommended that SIPC develop 

written guidance to help establish consistency between trustees and 

liquidations. SIPC agreed to adopt such written guidance for reviewing 

unauthorized trading claims. 

• Concerning SIPC’s investor education programs, SEC found that SIPC 

should continue to review the information that it provides to investors 

about its policies and practices. For example, SEC found that some 

statements in SIPC’s brochure and Web site might overstate the extent 

of SIPC coverage and mislead investors. SIPC plans to continue to 

reexamine the adequacy of the information provided in its brochure and 

Web site to eliminate any potential confusion.

• SEC also found that SIPC should improve its controls over the fees 

awarded to trustees and their counsel for the services rendered and 

their expenses. SEC found that some descriptions of the work that the 

trustees performed were vague, making it difficult to assess whether the 

work was necessary or appropriate. SEC believed that SIPC could do a 

better job of reviewing and assessing fees that were requested. SIPC 
Page 15 GAO-03-811 Securities Investor Protection

agreed to ask trustees and counsel in SIPC cases to submit invoices at 

least quarterly and arrange billing records into project categories. SIPC 

also agreed to instruct its personnel to document discussions with 

trustees and counsel regarding fee applications and to note any 

differences in amounts initially requested by trustees and counsel and 

those amounts recommended for payment by SIPC.

• In addition, SEC found that SIPC lacks a record retention policy for 

records generated in liquidations where SIPC appoints an outside 

trustee. It was found that trustees had different procedures for retention 

of records, and SEC was not able to review records from one liquidation 

because the trustee had destroyed the records. SIPC has agreed to 

develop a uniform record retention policy for all SIPA liquidations, 

following a cost analysis.

• SEC also found that the SIPC fund was at risk in the case of failure of 

one or more of the large securities firms. SEC found that even if SIPC 

were to triple the fund in size, a very large liquidation could deplete the 

fund. Therefore, SEC suggested that SIPC examine alternative strategies 

for dealing with the costs of such a large liquidation. SIPC management 

agreed to bring this issue to the attention of the Board of Directors, who 

evaluates the adequacy of the fund on a regular basis. 

Also as part of SEC’s ongoing oversight effort, in September of 2000, SEC’s 

Office of General Counsel (OGC) initiated a 1-year pilot program to 

monitor SIPA liquidations. According to SEC, the primary objective of the 

pilot program was to provide oversight of claims determinations in SIPA 

liquidation proceedings in order to make certain that the determinations 

were consistent with SIPA. According to SEC officials, this program has 

since been made permanent. SEC’s OGC now enters notices of appearance 

in all SIPA liquidation proceedings. The cases are followed mostly by 

NERO and the Midwest Regional Office, given the significant numbers of 

SIPA liquidations in these locations. The staff can recommend that 

Commission staff intervene in SIPA liquidations, if appropriate.

Sixth, we recommended that SEC, in conjunction with the SROs, establish 

a uniform disclosure rule requiring clearing firms to put a standard 

statement about documenting unauthorized trading claims on their trade 

confirmations and/or other account statements. In 2001, we found that 

SEC, NASD, and the NYSE, did not have requirements that clearing firms 

notify customers that they should immediately complain in writing about 

allegedly unauthorized trades. A review of a judgmental sample of trade 
Page 16 GAO-03-811 Securities Investor Protection

confirmations and account statements found that many firms voluntarily 

notify their customers to immediately complain if they experience any 

problems with their trades, but instructions about the next course of action 

varied and did not necessarily specify that the investor should complain in 

writing. Initially, SEC expressed concern about promulgating a rule itself. 

However, in 2003, SEC began to take steps to implement this 

recommendation. Specifically, SEC has asked NYSE and NASD to explore 

how this recommendation can be more fully implemented through SRO 

rulemaking and Notices to Members. As of June 9, the SROs were still 

evaluating how best to implement this recommendation. According to an 

SRO official, concern about potentially penalizing investors who may not 

complain in writing but may file claims in other forums, such as arbitration 

proceedings, will need to be resolved. However, SEC believes that they will 

be able to craft acceptable language that ensures that these investors are 

not harmed.

Lastly, we recommended that SEC require SIPC member firms to provide 

the SIPC brochure to their customers when they open an account and 

encourage firms to distribute the brochure to existing customers more 

widely. This recommendation was an additional step aimed at educating 

and better informing customers about how to protect their investments. 

The SIPC informational brochure called How SIPC Protects You provides 

useful information about SIPC and its coverage. However, SIPC bylaws and 

SEC rules do not require SIPC members to distribute the brochure to their 

customers. The authority lies with SEC or the SROs to require the firms to 

provide the brochure to their customers. To date, it is unclear what action 

will be taken. SEC officials expressed concern about imposing another rule 

on securities firms. Instead, SEC included this recommendation in its letter 

to NYSE and NASD to explore how this could be implemented through SRO 

rulemaking and Notices to Members. According to SEC and SRO officials, 

both NASD and NYSE are in the process of exploring how best to 

implement this recommendation. SEC officials said that they did not 

expect the SROs to have problems implementing this recommendation.

SIPC Has Taken Steps 

to Improve Investor 

Education

In our 2001 report, we made three recommendations to SIPC to improve 

the information available to investors about its coverage, particularly with 

regard to unauthorized trading. In addition to taking steps to implement 

our recommendations, SIPC has continued a nationwide investor 

education program that addresses many of the specific issues raised in our 

2001 report. SIPC has a responsibility to inform investors of actions they 

can take to protect their investments and help ensure that they are afforded 
Page 17 GAO-03-811 Securities Investor Protection

the full protections allowable under SIPA. Our 2001 report found that 

investors might confuse the coverage offered by SIPC, Federal Deposit 

Insurance Corporation (FDIC), and state insurance guarantee associations 

and not fully understand the protection offered under SIPA. This was 

significant because the type of financial protection that SIPC provides is 

similar to that provided by these programs, but important differences exist. 

To address these and other investor education issues, SIPC began a major 

public education campaign in 2000. As part of the campaign, SIPC worked 

with a public relations firm to make its Web site and brochure more reader 

friendly and less focused on legal terminology. The changes were designed 

to ensure that the Web site is easy to use and written in plain English. In 

addition to revising its brochure and Web site, SIPC produced a series of 

audio and video public service announcements (PSA).17 From June 15, 

2002, to November 15, 2002, the PSAs were aired over 76,000 times. 

According to SIPC’s 2002 annual report, the TV PSAs have appeared on 129 

stations, in 106 cities, in 46 states; and the radio spots have aired on 415 

stations, in 249 cities, in 49 states. They have also been aired nationally on 

CNBC and the Fox News Channel. 

SIPC and its public relations firm are continuing to work together to 

improve investor awareness of SIPC and its policies. They are developing a 

new television and radio campaign scheduled to begin in July 2003. They 

are also working to better explain the claims process through a new 

brochure and video. The claims process brochure will provide information 

to individuals that do not have access to the Internet. This investor 

education campaign has increased the amount and clarity of information 

available about SIPC and has provided investors who review it with 

important information. 

As mentioned, in addition to identifying investor education concerns in our 

2001 report, we recommended that SIPC take three specific actions to 

improve its disclosure. First, we recommended that SIPC revise its 

brochure and Web site to include a full explanation of the steps necessary 

to document unauthorized trading claims. SIPC has determined, and courts 

have agreed, that an objective evidentiary standard, such as written 

complaints, is necessary to protect the SIPC fund from fraudulent claims. 

However, in our 2001 report, we found that SIPC had also missed 

opportunities to provide investors with complete information about dealing 

with unauthorized trading. For example, we found that claimants in 87 

17These PSAs may also be viewed at www.sipc.org/streaming.html. 
Page 18 GAO-03-811 Securities Investor Protection

percent of the claims we reviewed telephoned complaints to their brokers. 

Given that many investment transactions are largely made by telephone, 

we were concerned that investors were not aware of the importance of 

documenting their complaints in writing if they were ever required to file a 

claim with SIPC. Furthermore, we found the SIPC brochure did not advise 

investors that SIPA covers unauthorized trading and that investors should 

promptly complain in writing about allegedly unauthorized trades. As 

previously mentioned, the brochure was revised as part of the investor 

education campaign and now includes the statement, “If you ever discover 

an error in a confirmation or statement, you should immediately bring the 

error to the attention of the [firm], in writing.” In addition, SIPC has created 

a Web page, entitled Documenting an Unauthorized Trade, which includes 

the same information on complaining in writing to the firm about any 

errors. 

We also recommended that SIPC amend its advertising bylaws to include a 

statement that SIPC does not protect against loss due to market 

fluctuations. SIPC officials did not agree with the recommended statement 

and felt that it would be misleading unless additional explanations were 

added. Instead, SIPC has expanded a statement in its brochure that 

discusses SIPC coverage of market fluctuation to read, 

“Most market losses are a normal part of the ups and downs of the risk-oriented world of 

investing. That is why SIPC does not bail out investors when the value of their stocks, 

bonds, and other investments fall for any reason. Instead, SIPC replaces missing stocks and 

other securities where it is possible to do so...even when investments have increased in 

value.” 

In addition, SIPC amended its advertising bylaws in 2002 to require firms 

that choose to make an explanatory statement about SIPC to include a link 

to the SIPC Web site.18 This will further enable the customer to access 

information about what SIPC does and does not cover. NASD and SEC have 

also begun to make disclosures about SIPC and market risk to investors. 

For example, the NASD Web site says, “SIPC does not protect against 

market risk, which is the risk inherent in a fluctuating market. It protects 

the value of the securities held by the [firm] as of the time the SIPC trustee 

is appointed.” SEC informs investors that “SIPC does not protect you 

against losses caused by a decline in the market value of your securities.” 

Furthermore, many securities firms also include similar statements about 

18Firms are required to mention their SIPC membership in advertisements, but are not 

required to use one of the explanatory statements provided by SIPC.
Page 19 GAO-03-811 Securities Investor Protection

SIPC protection on their Web sites. SIPC’s statement about market risk and 

amended bylaws as well as the availability of other disclosures by the 

regulators and firms effectively responds to the concern our 

recommendation was intended to address.

Finally, we recommended that SIPC revise its brochure to warn investors to 

exercise caution in ratifying potential unauthorized trades in telephone 

discussions with firm officials. SIPC believes that the statement discussed 

above encouraging investors to complain in writing about unauthorized 

trades in its brochure and Web site will make oral ratification unlikely. 

SIPC officials also maintain that this type of information is best handled in 

those publications and Web pages that warn investors about securities 

fraud. Therefore, in its brochure, SIPC provides links to several Web sites, 

such as SEC’s, that have investor education information about investment 

fraud. However SIPC provides links to only the main Web site and not to 

the specific Web pages that contain the relevant information, so investors 

may have difficulty locating information about specific types of fraud, such 

as unauthorized trading. For example, based on the Web address provided 

in the brochure, investors searching SEC’s Web site for “fraud,” would be 

linked to over 5,000 possible sites. SIPC also recommends the Securities 

Industry Association19 (SIA) Web site for information about investment 

fraud. However, based on the information SIPC provided, a search for 

“unauthorized trading” on this Web site yields only three results, none of 

which send the investor to useful educational information contained on the 

Web site. Investors are also directed to NASD’s Web site, which has a page 

entitled Investors Best Practices, which includes detailed information on 

cold calling and unauthorized trading. However, an investor may not be 

able to find this useful information without specific links to the relevant 

Web pages for this and other Web sites listed in the brochure. For example, 

a search for “unauthorized trading” on NASD’s Web site only yields one 

result, which provides a link to a definition for unauthorized trading but no 

reference to the useful educational information. 

19SIA is a trade group that represents broker-dealers of taxable securities. SIA lobbies for its 

members’ interests in Congress and before SEC and educates its members and the public 

about the securities industry.
Page 20 GAO-03-811 Securities Investor Protection

Terms of Existing 

Excess SIPC Policies 

Vary, and Most Insurers 

Have Stopped 

Underwriting New 

Policies

Excess SIPC coverage is generally offered by well-capitalized, large, and 

regional securities firms and is generally marketed by the firms as 

additional protection for their large account holders. Our review of the 

excess SIPC policies offered by the four major insurers found the policies 

varied by firm and insurer in terms of the amount of coverage offered per 

customer and in aggregate per firm. In our review of some of the policies, 

we found that excess SIPC coverage was not uniform and was not 

necessarily consistent with SIPC protection. Attorneys familiar with the 

policies also agreed that the disclosure of the coverage and the terms of 

coverage could be improved. During our review, three of the four major 

insurers that offered excess SIPC coverage in 2002 stopped underwriting 

these policies in 2003 for a variety of reasons. Consequently, as the policies 

expire, most insurers are not renewing their existing policies beyond 2003 

and have stopped underwriting new policies in general. At this time, it is 

unclear what some of the securities firms that had excess SIPC coverage 

plan to do going forward. 

Excess SIPC Coverage Is 

Generally Limited to Larger 

Firms 

Excess SIPC is generally limited to certain well-capitalized, large, and 

regional firms that have a relatively low probability of being part of a SIPC 

liquidation. Moreover, the policies—usually structured as surety bonds—

are generally purchased by clearing firms.20 The insurance underwriters of 

excess SIPC policies told us that they use strict underwriting guidelines 

and have minimum requirements for a firm requesting coverage. Most 

insurers evaluate a securities firm for excess SIPC coverage by reviewing 

its operational and financial risks. Insurers also consider the firm’s internal 

control and risk management systems, the type of business that the firm 

conducts, its size, its reputation, and the number of years in business. Some 

insurers also required the firms to annually submit information on the 

number and value of customer accounts above the $500,000 SIPC limit, to 

help gauge their maximum potential exposure in the unlikely event that the 

firm became part of a SIPC liquidation. Firms below a certain dollar net 

capital threshold were generally not considered for coverage. 

20In general terms, a surety bond represents a contract in which one party to the contract, 

the “surety,” is obligated to pay third parties if the other party to the contract fails to 

perform a duty owed to the third parties. See REST 3d ~ 1.
Page 21 GAO-03-811 Securities Investor Protection

Excess SIPC Coverage Is 

Not Uniform and Is Not 

Necessarily Consistent with 

SIPC Coverage

Although an excess SIPC claim has never been filed in the more than 30 

years that the coverage has been offered, we identified several potential 

investor protection issues.21 Our review of excess SIPC policies, which 

included one from each of the four major insurers, revealed that excess 

SIPC coverage is not uniform and that some policies are not always 

consistent with SIPC coverage. Although the policies were advertised as 

covering losses (or losses up to an amount specified in the policy) that 

would otherwise be covered by SIPC except for the $500,000 limit, we 

found that claims under the policies could be subject to various terms and 

limitations that do not apply to SIPC coverage. Attorneys familiar with 

SIPA and excess SIPC have also raised questions about who is covered in 

the policies and how the claims process would work in the case of a firm’s 

bankruptcy. These potential inconsistencies or concerns include

• Some policies included customers that would generally be 

ineligible under SIPA. The wording in some of the policies could be 

interpreted as protecting individuals who are not customers eligible for 

SIPC advances. Others contained specific riders that expanded the 

excess SIPC policy to include classes of customers beyond those 

covered by SIPC. For example, some policies have riders that extend 

coverage to officers and directors of the failed firm, as long as they are 

not involved with any fraud that contributed to the firm’s demise. As 

mentioned previously, SIPC coverage excludes certain customers, such 

as officers and directors of the failed firm and broker-dealers and banks 

acting on their own behalf. 

• Some policies limited the duration of coverage. Each policy we 

reviewed provided coverage only if SIPC were to institute judicial 

proceedings to liquidate the firm while the policy was in effect. Three of 

the four policies provided for specific periods of time during which they 

were in effect, as well as for cancellation by the insurer under specified 

conditions. Although each of the three policies required the securities 

firm to notify its customers of a cancellation, none of the policies 

expected notification to the customers regarding expiration.22

21According to one insurer, while no claims have been filed, certain attorney fees and a very 

small number of settlements have been paid to a few investors.

22Two of the policies specified that it was the broker-dealer’s “responsibility” to notify its 

customers of discontinuance of the coverage, but neither the insurer nor the firm was 

obligated to make this disclosure.
Page 22 GAO-03-811 Securities Investor Protection

According to NYSE and NASD, there are not any specific SRO rules that 

require these firms to notify their customers. However, NYSE said that 

they generally expect firms to notify investors of any changes in their 

excess SIPC protection under rules involving disclosure requirements 

for fees changes. NASD generally expects firms to notify their 

customers under NASD’s Just and Equitable Rule.

• Some excess SIPC policies varied from SIPA in scope of 

coverage. Certain policies also differed from SIPA in terms of the scope 

of excess coverage. Specifically, customer cash, which would generally 

be covered under SIPA, was not covered by two of the policies we 

reviewed. One of the policies specifically restricted coverage to lost 

securities; the other described coverage as pertaining only to a 

customer’s claim for “loss of securities.”23 Also, in addition to a cap on 

the amount of coverage per customer, one policy contained a cap on the 

insurer’s overall exposure—the policy established an aggregate cap of 

$250 million—regardless of the total amount of customer claims. SIPC 

has no such aggregate cap.

• The mechanics of the claims process were unclear. In addition to 

limitations on coverage, at least one policy had other characteristics 

that could either restrict a customer’s ability to recover losses that 

exceed the amount covered under SIPA or delay a customer’s recovery 

until long after the net equity covered by the insurance has been 

determined. The policy conditioned the customer’s recovery upon the 

customer providing the insurer with a claim notice subject to specific 

time, form, and content specifications. Among other things, the 

customer was required to submit a written claim accompanied by 

evidence satisfactory to the insurer and an assignment to the insurer of 

the customer’s rights against the firm. The other policies did not address 

when a customer must file a claim.

• The role of the trustee in the claims process was unclear. Another 

difference we found is the role of the trustee regarding customer claims 

under SIPA and excess SIPC coverage policies. Under SIPA, the trustee 

acts on behalf of customers who properly file claims to see that they 

recover losses as provided in SIPA. It is unclear whether the trustee 

could represent customers on claims for excess insurance because, in 

23A similar policy contained a rider specifying coverage for lost cash in excess of the 

$100,000 SIPA cap.
Page 23 GAO-03-811 Securities Investor Protection

some cases, the policies indicate that only individual customers could 

bring claims and, in any case, the trustee may not have authority under 

the bankruptcy laws to do so.24 SIPC trustees and other attorneys 

experienced with SIPA liquidations also agreed that it was not clear who 

was responsible for filing the claim, the customer or the trustee.

• The policies did not clearly state when a claim would be paid. The 

policies also differed from SIPC coverage regarding when customers 

could recover their losses. For purposes of SIPC coverage, the trustee 

discharges obligations of the debtor from available customer property 

and, if necessary, SIPC advances, without waiting for the court to rule 

on customer property and net equity share calculations. Under the 

excess coverage policies, it is unclear when customers would be eligible 

to recover assets in excess of those replaced by SIPC. Some of the 

policies provide for “prompt” replacement or payment of the portion of 

a customer’s covered net equity. In contrast to SIPC coverage, however, 

they specify that the insurer shall not be liable for a claim until the 

customer’s net equity has been “finally determined by a competent 

tribunal or by written agreement between the Trustee and the 

Company,” which could take years. Under another policy, the insurer 

could wait until after liquidation of the broker-dealer’s general estate 

before replacing a customers’ missing assets. The general creditor 

claims process could also take several years. An attorney 

knowledgeable about SIPC and excess SIPC said that some policies 

indicate that the insurance company has no liability until the customer 

claim is paid by SIPC. However, in many cases SIPC does not directly 

pay investors, but does so through a trustee. Therefore, the policy, if 

taken literally, would preclude an investor from ever being paid through 

excess SIPC insurance. 

• Excess SIPC coverage appears to be limited to clearing firm 

failures. Most of the excess SIPC polices we reviewed provide that only 

the policy holder, usually a clearing firm, is covered under the policy. 

Introducing firms of clearing firms may advertise the coverage provided 

by their clearing firm. For example, we reviewed the Web sites of 53 

introducing firms and found that about 25 percent advertised the excess 

24See Caplin v. Marine Midland Grace Trust Co., 406 U.S. 416, 434, 32 L. Ed. 2d 195, 92 S. Ct. 

1678 (1972) (Bankruptcy trustee did not have standing to assert debenture holders’ claims of 

misconduct against respondent indenture trustee where the cause of action belonged solely 

to the debenture holders and not to the bankruptcy estate.)
Page 24 GAO-03-811 Securities Investor Protection

SIPC protection provided by the clearing firm. This creates the potential 

for investor confusion because the coverage would apply only in the 

case of the clearing firm’s failure. Because introducing firms do not clear 

securities transactions or hold customer cash or securities, the 

customer’s assets should be unaffected in the event of an introducing 

firm’s failure. However, there have been cases where customer funds 

were “lost” before they were sent to the clearing firm, typically due to 

fraudulent activity. If the introducing firm fails while the assets are still 

with the introducing firm but the clearing firm continues to operate, 

investors may not be aware that the excess SIPC protection would only 

apply in the event of the clearing firm’s failure. Conversely, SIPC will 

initiate liquidation proceedings against introducing firms and protect 

their investors in certain situations.

Three of the Four Major 

Insurers Identified Stopped 

Underwriting Excess SIPC 

Policies in 2003 

During our review, three of the four major insurers that offered excess 

SIPC coverage in 2002 stopped underwriting these policies beyond 2003. 

The insurers provided various reasons for not continuing to underwrite 

excess SIPC policies, such as their concern about the complexity of 

quantifying their maximum probable loss. In addition, officials from 

securities firms and attorneys knowledgeable about excess SIPC had 

opinions about why the insurers are no longer underwriting excess SIPC 

policies. 

According to the insurers that have stopped offering excess SIPC, they 

made a business decision to stop offering the coverage after reviewing their 

existing product offerings. They said that this practice of periodically 

reviewing product lines and profitability is not uncommon. Most of the 

underwriters were property and casualty insurance companies, and the 

excess SIPC product was viewed as a relatively small part of their standard 

product line and provided low return in the form of premiums relative to 

the significant potential risk exposure. Some of the underwriters said that 

documenting and explaining the potential risk associated with excess SIPC 

policies is difficult. For example, the maximum potential loss for excess 

SIPC could be significant because it is simply the aggregate of all customer 

account balances over SIPC’s $500,000 limit. Quantifying the probability of 

loss, which would be significantly less, is much more difficult because 

insurers have never had a claims-related loss associated with the excess 

SIPC policies; therefore, no historical loss data exists. 

Another insurer said credit rating agencies began to ask questions about 

potential risk exposures from excess SIPC; and rather than risk a change to 
Page 25 GAO-03-811 Securities Investor Protection

its credit rating, it opted to stop providing the coverage given the limited 

number of policies it underwrote.25 Others in the industry said that in light 

of the Enron Corporation failure and the losses experienced by the 

insurance underwriters that had exposure from Enron-related surety 

bonds, credit rating agencies have begun to more closely scrutinize 

potential losses and risk exposures of insurance companies overall. While 

surety bonds are still considered relatively low-risk products, insurers are 

more sensitive to their potential risk exposures. As mentioned, given the 

absence of actuarial data it is difficult for insurers to quantify the maximum 

probable losses from excess SIPC. 

Securities firms and others also had opinions about why insurers stopped 

underwriting the policies. Some believed that a general lack of knowledge 

about the securities industry and SIPC, in particular, might have 

contributed to the products being withdrawn from the market. Many firms 

said that the risk of an excess SIPC claim ever being filed is low for two 

primary reasons. First, securities firms that carry customer accounts are 

required to adhere to certain customer protection rules. Specifically, firms 

must keep customer cash and securities separate from those of the firm 

itself and maintain sufficient liquid assets to protect customer interests if 

the firm ceases doing business. Moreover, SEC and the SROs have 

established inspection schedules and procedures to routinely monitor 

broker-dealer compliance with customer protection (segregation of assets) 

and net capital rules. Firms not in compliance can be closed. 

Second, SIPA liquidations are rare in general and claims in excess of the 

SIPA limit are even more rare. For example, since 1998, more than 4,000 

firms have gone out of business, but less than 1 percent or 37 firms became 

part of a SIPA liquidation proceeding. This is consistent with historical data 

dating back to the 1970s. Moreover, since 1971 of the almost 623,000 claims 

satisfied in completed or substantially completed cases as of December 31, 

2002, a total of 310 were for values in excess of SIPC limits (less than onetenth of 1 percent). Of these 310 claims, 210 were filed before 1978 when 

the limit was raised to $500,000. Only two firms involved in a SIPA 

25Credit ratings produced by credit rating agencies are widely circulated; many investors 

rely on these ratings to make investment decisions. These ratings include opinions about the 

creditworthiness of certain public companies and their financial obligations, including 

bonds, preferred stock, and commercial paper. The credit ratings that result from analyses 

of this information can affect securities markets in a number of important ways, including 

an issuer’s access to and cost of capital, the structure of financial transactions, and the 

ability of certain entities to invest in certain rated obligations.
Page 26 GAO-03-811 Securities Investor Protection

liquidation have offered excess SIPC, but no claims have been filed to date. 

According to officials knowledgeable about a 2001 proceeding, which 

included a firm with an excess SIPC policy, claims for excess SIPC are 

likely to be filed. However, the amount of claims to be filed are unclear at 

this time.

Securities Firms Are 

Exploring a Variety of 

Options 

Most of the six holders of the excess SIPC policies we contacted are 

currently exploring a number of options; but at this time, it is unclear what 

most will do. Although most said that the coverage is largely a marketing 

tool, some felt that the policies increased investor confidence in the firm 

because an independent third party (the insurance company) had 

examined the financial and operational risks of the firm prior to providing 

them coverage. Several of the firms and those in the securities industry we 

contacted said that they were surprised to learn that the insurers planned 

to stop providing excess SIPC coverage. Therefore, most firms are still 

exploring a number of options on how best to proceed, including 

• Self-insuring or creating a “captive” insurance company that would offer 

the coverage. 26 However, firm officials involved in exploring the captive 

expressed concerns about whether they could establish the insurance 

company by the end of 2003. Others questioned whether this option was 

feasible given the competitive nature of the securities industry. 

• Purchasing policies from the remaining major insurer. While some have 

already chosen this option, officials from some of the larger firms said 

that this might not be an acceptable option because the remaining 

insurer generally limits the amount of the coverage per firm. Firms that 

currently offer net equity coverage were concerned that their high net 

worth customers may not be satisfied with a policy that has a cap on its 

coverage. Additionally, the policy of the remaining underwriter raised 

the most questions about its consistency with SIPC coverage.

• Letting the policies expire and not replacing them. Some of the firms we 

spoke with said that the larger firms really do not need the excess SIPC 

because they are well capitalized and the existing customer protection 

rules offer sufficient protection. However, some officials said that if one 

26A captive insurance company is a type of self-insurance whereby a insurance company 

insures all or part of the risks of its parent. This company is created when a business or 

group of businesses form a corporation to insure or reinsure their own risk.
Page 27 GAO-03-811 Securities Investor Protection

larger firm continued to offer the coverage, they all would have to 

continue to offer the coverage in order to effectively compete for high, 

net worth client business. Other firm officials suggested that SIPA might 

need to be reexamined in light of the numerous changes that have 

occurred in securities markets since 1970. Some officials said that at a 

minimum, the SIPA securities limit of $500,000 should be raised to $1.5 

million. Another said that it is still possible that another insurance 

company may decide to fill the void left by the companies exiting the 

business. Other industry officials said that they were still in negotiations 

with the remaining insurer to increase the coverage limits, which was a 

concern for the larger firms. 

Many of the securities firms we spoke with had policies that will expire by 

the end of 2003. All planned to notify affected customers, but many had not 

developed specific time frames. Most firms said that they planned to have 

some type of comparable coverage, which could mitigate the importance of 

notifying customers. In the interim, several securities firms have asked SIA 

to produce information for the firms to use when talking to their customers 

about SIPA and the protections they have under the act. The information 

being developed for the securities firms is to also include information 

about SIPC, excess SIPC, and how securities markets work. As mentioned 

previously, NYSE officials said that there is no specific rule that requires 

securities firms to notify investors if the SIPC coverage expires without 

being replaced. However, they generally expect firms to notify customers 

under rules concerning fee disclosure requirements. Likewise, NASD 

officials said that it had no specific rule requirements but would generally 

expect firms to notify affected investors under general rules concerning 

just and equitable principles. 

In March 2003, in response to concerns raised about excess SIPC coverage 

and the potential investor protection issues, SEC began its own limited 

review of these issues. Initially, SEC planned to collect information on the 

securities firms that offer the coverage, the major providers, and the nature 

of the coverage offered. Because most of the firms that have excess SIPC 

coverage are NYSE members, SEC asked NYSE to gather information 

about excess SIPC coverage and information about the policies. In 

response, NYSE compiled information on its members with excess SIPC 

insurance policies and their insurers. NYSE also analyzed other data and 

descriptive statistics such as assets protected under excess SIPC. NYSE 

also reviewed the coverage offered by the major insurers. Out of more than 

250 NYSE members, they determined that 123 had excess SIPC insurance 

coverage and that most of the members were insured by one of the four 
Page 28 GAO-03-811 Securities Investor Protection

major insurance providers. However, when several underwriters decided to 

stop providing the coverage, SEC suspended most of its review activity and 

has not actively monitored the changes in the availability of the coverage or 

the firms’ plans going forward. Given the changes occurring in this market 

and the potential concerns about the policies, SEC officials agreed that 

they should continue to monitor these ongoing developments to ensure 

that investors are obtaining adequate and accurate information about 

whether excess SIPC coverage exists and what protection it provides. 

Conclusions SEC and SIPC have taken steps to implement all of the recommendations 

made in our May 2001 report. However, SEC has some additional work to 

do with the SROs to implement two of our recommendations. Although 

SEC has asked the SROs to explore actions to encourage broader 

dissemination of the SIPC brochure to customers and to include 

information on periodic statements or trade confirmations to inform 

investors that they should document any unauthorized trading complaints, 

no final actions have been taken to implement these recommendations. 

We also found that SIPC has substantially revamped its brochure and Web 

site and continues to be committed to improving its investor education 

program to ensure that investors have access to information about 

investing and the role and function of SIPC. By doing so, SIPC has shown a 

commitment to making its operations more transparent. We did note, 

however, that SIPC’s response to our recommendation about warning 

customers about unintentionally ratifying unauthorized trades, has not 

completely addressed our concern that investors have specific information 

about the risks of unintentionally ratifying trades when talking to brokers. 

In 2001, we recommended that SIPC revise its brochure to warn investors 

to exercise caution in discussions with firm officials. Rather than including 

this information in its brochure, SIPC revised its brochure to provide 

references or links to Web sites, such as SEC and NASD, but not to the 

specific investor education oriented Web pages discussing ratifying 

potentially unauthorized trades or fraud. We found that these broad 

references make it difficult or virtually impossible for investors to find the 

relevant information. More specific links to investor education Web pages 

within each Web site would mitigate this problem.

Concerning excess coverage, three of the four major insurance companies 

stopped underwriting excess SIPC policies in 2003 after reevaluating their 

potential risk exposures and product offerings. Although an excess SIPC 

claim has never been filed to date, insurance companies have become more 
Page 29 GAO-03-811 Securities Investor Protection

sensitive to potential risk exposures in light of their recent experience with 

Enron and other high profile failures. Most made business decisions to stop 

offering this apparently low-risk product. Many of the firms appear to have 

been surprised by this decision and are exploring several options, including 

letting the coverage expire, purchasing coverage from the remaining 

underwriter, or creating a captive insurance company to provide the 

coverage. Given the limitations and concerns we and others have raised 

about the protection afforded investors under excess SIPC, including 

limitations on scope and terms of coverage and an overall lack of 

information on the claims process and when claims would be paid, SEC 

and the SROs have vital roles to play in ensuring that existing and future 

disclosures concerning excess SIPC accurately reflect the level of 

protection afforded customers. 

Recommendations As SIPC continues to revamp and refine its investor education program, we 

recommend that the Chairman, SIPC, revise SIPC’s brochure to provide 

links to specific pages on the relevant Web sites to help investors access 

information about avoiding ratifying potentially unauthorized trades in 

discussions with firm officials and other potentially useful information 

about investing. 

Given the concerns that we and others have raised about excess SIPC 

coverage, we also recommend that the Chairman SEC, in conjunction with 

the SROs, ensure that firms are providing investors with meaningful 

disclosures about the protections provided by any new or existing excess 

SIPC policies. Furthermore, we recommend that SEC and the SROs 

monitor how firms inform customers of any changes in or loss of excess 

SIPC protection to ensure that investors are informed of any changes in 

their coverage. 

Agency Comments SEC and SIPC generally agreed with our report findings and 

recommendations. However, SIPC said that providing more specific 

linkages in its brochure would prove problematic because of the frequency 

in which Web sites are changed. Rather, they agreed to provide a reference 

in the brochure to the SIPC Web site, which will provide more specific links 

to the relevant portions of the sited web pages. We agree that this 

alternative approach would implement the intent of our recommendation 

to provide investors with more specific guidance about fraud and 

unauthorized trading. 
Page 30 GAO-03-811 Securities Investor Protection

SEC agreed that securities firms have an obligation to ensure that investors 

are provided accurate information about the extent of the protection 

afforded by excess SIPC policies and that the policies should be drafted to 

ensure consistency with SIPC protection as advertised. SEC officials 

reaffirmed their commitment to work with the SROs to ensure that excess 

SIPC as advertised, is consistent with the policies. Moreover, SEC agreed 

that investors should be properly notified of any changes in the coverage. 

Finally, SEC reiterates the recommendations it made to SIPC in its 2003 

examination report, which as SEC describes are “important to enhance the 

SIPA liquidation process for the benefit of public investors.”

Objectives, Scope, and 

Methodology

Our objectives were to (1) discuss the status of the recommendations that 

we made to SEC in our 2001 report, (2) discuss the status of the 

recommendations that we made to SIPC in our 2001 report, and (3) discuss 

the issues surrounding excess SIPC coverage. Finally, SEC reiterates the 

recommendations made to SIPC in its 2003 examination report, which the 

letter describes as “important to enhance the SIPA liquidation process for 

the benefit of public investors.”

To meet the first two objectives, we interviewed staff from SEC’s Market 

Regulation, OGC, OCIE, and the Division of Enforcement as well as SIPC 

officials to determine the status of the recommendations that we made in 

our 2001 report. We also reviewed a variety of SEC and SIPC informational 

sources, such as SIPC’s brochure and SEC’s and SIPC’s Web sites, to 

determine what SEC and SIPC disclosed to investors regarding SIPC’s 

policies and practices. We also reviewed the Web sites of the sources 

provided by SIPC, such as SIA, NASD, the National Fraud Information 

Center, Investor Protection Trust, Alliance for Investor Education, and the 

North American Securities Administrators Association. 

To address the third objective—to discuss the issues surrounding excess 

SIPC coverage—we interviewed agency officials, regulators, SROs, and 

trade associations to determine what role, if any, they play in monitoring 

excess SIPC. We also interviewed representatives or brokers of the four 

major underwriters of excess SIPC policies to obtain information about the 

coverage, their claim history, and their rationale for discontinuing the 

excess SIPC product. In addition, we interviewed six securities firms that 

had excess SIPC policies to (1) obtain their views on the scope of coverage, 

(2) determine what they were told about the excess SIPC product being 

withdrawn, and (3) to identify what they planned to do about replacing the 

coverage going forward. We also interviewed two SIPC trustees who had 
Page 31 GAO-03-811 Securities Investor Protection

liquidated firms that had excess SIPC policies to obtain their views and 

opinions about the coverage. We also met with attorneys knowledgeable 

about SIPC and excess SIPC policies and coverage to obtain their views 

and perspectives on excess SIPC issues. Moreover, we also reviewed 

sample policies from the four major excess SIPC providers to determine 

the differences and similarities among the policies as well as their 

consistency with SIPC’s coverage. We also reviewed a random sample of 

clearing and introducing firms’ Web sites to determine if they advertised 

excess SIPC protection on their Web sites and the nature of the protection. 

We conducted our work in New York, NY, and Washington, D.C., from 

October 2002 through July 2003 in accordance with generally accepted 

government auditing standards.

As agreed with your office, we plan no further distribution of this report 

until 30 days from its issuance date unless you publicly release its contents 

sooner. At that time, we will send copies of this report to the Chairman, 

House Committee on Energy and Commerce; the Chairman, House 

Committee on Financial Services; and the Chairman, Subcommittee on 

Capital Markets, Insurance and Government Sponsored Enterprises, House 

Committee on Financial Services. We will also send copies to the Chairman 

of SEC and the Chairman of SIPC and will make copies available to others 

upon request. In addition, the report will be available at no charge on the 

GAO Web site at http://www.gao.gov.

If you or your staff have any questons about this report, please contact 

Orice Williams or me at (202) 512-8678. Other GAO contacts and staff 

acknowledgments are listed in appendix III.

Richard Hillman, Director

Financial Markets and Community Investment
Page 32 GAO-03-811 Securities Investor Protection

Appendix I

Comments from the U.S. Securities and Apendxies

Exchange Commission ApendxiI
Appendix I

Comments from the U.S. Securities and 

Exchange Commission

Page 33 GAO-03-811 Securities Investor Protection
Page 34 GAO-03-811 Securities Investor Protection

Appendix II

Comments from the Securities Investor 

Protection Corporation ApendxiI
Appendix II

Comments from the Securities Investor 

Protection Corporation

Page 35 GAO-03-811 Securities Investor Protection
Page 36 GAO-03-811 Securities Investor Protection

Appendix III

GAO Contacts and Staff Acknowledgments ApendxiI

GAO Contacts Richard J. Hillman (202) 512-8678

Orice M. Williams (202) 512-8678

Acknowledgments In addition to those individuals named above, Amy Bevan, Emily Chalmers, 

Carl Ramirez, La Sonya Roberts, and Paul Thompson made key 

contributions to this report.

(250105)
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